Chief economist warns against tying interest rates to the euro: – Remember the 90s

Today, Norges Bank came up with a much-anticipated interest rate decision. The policy interest rate will remain unchanged at 4.5 percent. At the same time, it was clarified by Norges Bank that based on the information they now have, it is likely that the interest rate will be kept up for longer than what they envisioned in March. But Central Bank Governor Ida Wolden Bache will not give a new forecast on how much longer.

– Earlier it was announced that the first cut could come in September, this signal from Norges Bank today supports our forecasts that it will not come until December, says chief economist at DNB Markets Kjersti Haugland to ABC Nyheter.

Some of the information that Norges Bank is now pointing to is a weaker krone. The krone has so far been weaker than they imagined in the second quarter.

– One of the reasons for that is that the expectation of interest rate cuts with our trading partners has been pushed back in time, especially for the USA. If Norges Bank cuts interest rates too early, the krone’s depreciation could accelerate, and that would mean increasing price increases here at home, explains Haugland.

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Currency discussion

Last month, chief economist Jan Ludvig Andreassen of Eika Gruppen spoke in Dagbladet Børsen in favor of linking the Norwegian krone to the euro.

– Everything points to the fact that we should, and will, link ourselves to the euro in the coming years, Andreassen told Børsen.

If the euro is to be introduced in the country, Norway must become a member of the EU, but what Andreassen wants is to “lock” the exchange rate to the euro, as Denmark has done. If we join the euro, we must follow the decision of the European Central Bank, and give up our own inflation management and an independent monetary policy.

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– I think more people will come to the realization that the gains from having an independent monetary policy will be vanishingly small in a complicated world. There is no criticism of Norges Bank here, really. It’s just the way the world has become, stated the chief economist.

Pointing to the 90s

Haugland is clear that you won’t get any money if you tie the Norwegian krone to the euro.

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– If you choose a fixed exchange rate regime, linked to the euro, you cannot use the interest rate to stimulate the Norwegian economy in times of recession, she says.

Haugland points to the Norwegian economy in the 1990s and to Norway before the Stoltenberg government introduced “Inflation Targeting” in 2001. At that time, Norway had a fixed exchange rate regime where the aim was to keep the Norwegian krone exchange rate stable against an arsenal of European currencies.

– This did not go so well and Norges Bank had to raise the interest rate sharply on several occasions to defend the fixed exchange rate, and was unsuccessful. Instead, the krone was devalued again and again, and in the end they gave up trying to protect the exchange rate, says Haugland and continues:

– If a fixed exchange rate is more important, it is also almost impossible to stabilize the exchange rate in this way (tying the Norwegian krone to the euro, journ.anm.), then actually introducing the euro is the practical way to make it happen, says DNB’s chief economist.

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Weak krone not only negative

But it will be a political issue, emphasizes Haugland, and believes that EU membership is not something that economists should say and think so much about – let the politicians take care of that.

– But it will also mean that the interest rate is set in Frankfurt, and there Norwegian conditions will not weigh heavily, she adds.

One must therefore decide whether currency uncertainty is so burdensome that one is willing to renounce an independent monetary policy.

– I believe the krone exchange rate is an important stabilizer for Norway, and a weak krone exchange rate is not only negative. Among other things, it makes us more competitive, and it means that foreigners find it more attractive to trade with Norway and holiday here. It helps us to restore balance, concludes Haugland.